Insurance programs are used to protect against an uncertain need to fund a future liability of an uncertain value, for example, a need to replace a car or a home in case of its loss or a need to provide a source of income in case of disability or death, etc. To provide an insurance again such uncertain events, an insurer generally evaluates future expected losses of an insured to determine an insurance premium to be charged for such an insurance coverage. However, it is not always possible to ascertain the future expected losses of an insured entity. Often, insurers estimate future expected losses of an insured entity based on past experiences of the insured entity. In other situations, the expected future losses may also be determined based on some other indices that may be correlated to such future expected losses.
One type of insurance widely used by various entities in the United States is a commercial liability insurance. Such an insurance is generally used to compensate an a business for a wide variety of losses incurred by an insured entity, which may include losses due to natural disasters, tort claims, etc. To estimate future expected losses for this type of insurance, an insurer may look at the past history of claims against the insured entity, and use an average of the past claims as a guide for the future claims. Alternatively, an insurer may also look at similar claims by other organization in an industry to determine the expected future losses. An insurer may use a number of much more sophisticated models using a number of different criteria. In practice, a lot of times insurers decide the pricing of premiums for such liability insurance based on the market demand and supply.
In an alternate arrangement for insuring against expected future losses, an organization may also use a self-insurance model in which, the insured entity may set aside a certain reserve in a separate fund that will be used to make any payments against future expected losses incurring to that organization. One advantage of using such a self insurance program is a removal of an intermediary such as an insurance company, and hence reduction in the cost of obtaining such an insurance. Self-insurance programs are particularly popular among governmental and not-for-profit entities for several reasons. For example, such governmental entities are generally tax exempt, and hence they do not derive the benefit of tax deductible insurance payments. Secondly, some governmental organizations have large reserves on their balance sheet, or they have access to bond markets to fund an internal self-insurance fund.
In recent years, changes in law, claims handling, managed health care, computers, etc., have changed the economics of self insuring versus insuring liabilities through an insurer. Numerous public and private entities are reviewing the cost and effectiveness of their current insurance and self-insurance programs. In many states, private insurers have historically been prohibited from writing insurance coverage for public entities. Due to such restrictions, a governmental organization looking to insure itself against expected future losses may use a self insurance program either by itself or in partnership with other governmental institutions.